It’s ‘Back to Basics’ for Banks When Dust Settles

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After the dust settles from the turmoil sweeping through the banking industry, several local banks may have disappeared and the remaining banks are likely to return to traditional practices.

Local banking leaders and industry experts expect a wave of consolidation in the next few quarters that will take out the most stressed banks. Already, PFF Bancorp, a faltering Rancho Cucamonga-based bank, announced a buyout by Oak Park, Ill.-based FBOP Corp.

Meanwhile, the rest of the region’s banks are expected to tighten their loan standards, diversify depositor bases and focus more on long-term customer relationships.

“As money became loose and liquidity sloshed around the system, there was a lot of craziness going on out there in the banking world,” said Robert Sweeney, president of Los Angeles-based Far East National Bank, referring to the widespread use of interest-only and “no doc” loans, among other gimmicks used to ramp up loan volumes.

“Now, it’s back to basics in terms of lending and building relationships,” he said.

For some banks with high percentages of delinquent loans on their books that are struggling to raise capital, it may be too late to go back to basics. They either need an infusion of capital from a buyout or could face insolvency.

However, most local bank executives and industry analysts don’t expect a huge wave of consolidation similar to what swept through the industry in the late 1980s and into the 1990s. That’s because many of the most attractive regional banks have already been purchased during previous rounds of merger-and-acquisition activity.

Instead, look for some of the community banks that didn’t get in over their heads with risky loans to pick up customers of larger financial institutions like Seattle-based Washington Mutual Inc. or brokerage houses that are now retrenching.

That’s already happening at places like Far East National Bank, which has seen its loan application pool double over the past year, Sweeney said.


Proceeding slowly

But, mindful of recent experience, these banks are treading cautiously.

Banks will likely look very carefully at underwriting standards, and types of lending instruments and loan products, said Stuart Gabriel, finance professor at UCLA Anderson School of Management and director of the UCLA Ziman Center for Real Estate.

“Many of the riskier loan products are essentially gone and so are the riskier borrowers,” Gabriel said.

Most local banks have already moved in this direction. Among the practices: requiring down payments and more documentation on loans, conducting more frequent checks of portfolios to look at repayment patterns, changing the mix of loans to not rely on troubled industries and getting more frequent reappraisals of properties underlying real estate loans.

At Far East National Bank, Sweeney said the bank used to review many of these loan-performance metrics quarterly “stress-testing the loan portfolio” but have now switched to a monthly review.

Meanwhile, at Culver City-based Alliance Bank, President Curtis Reis said the bank has almost entirely stopped construction lending , with its construction loan portfolio shrinking to $250 million from $300 million a couple of years ago. It is headed to $200 million by the end of the year. Alliance Bank’s first quarter assets were $1.1 billion.

“We are now much tougher about the way we evaluate loans,” Reis said. “We’re also going back and getting reappraisals on construction and property loans, because appraisals are only good on the day they are written.”

Another tactic for many local banks will be to focus more on building long-term relationships with business customers and their employees, rather than mass-marketing to consumers. Several of the newer business banks are already using this model.

Change also may be prompted by regulators, who are forecasting continued poor earnings at banks for several quarters. However, most of their attention will likely be on mortgage loan originators and brokerages that repackaged mortgage loans. If these sectors become more tightly regulated, banks could benefit.

“Banking as a whole will get stronger. The brokerage houses have pushed a lot of securities out there and those securities were supposed to be liquid and they turned out to be illiquid,” said Henry Walker, chief executive of Farmers and Merchants Bank. “People will go back to realizing that banks are a good place to keep your money safe.”

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Howard Fine
Howard Fine is a 23-year veteran of the Los Angeles Business Journal. He covers stories pertaining to healthcare, biomedicine, energy, engineering, construction, and infrastructure. He has won several awards, including Best Body of Work for a single reporter from the Alliance of Area Business Publishers and Distinguished Journalist of the Year from the Society of Professional Journalists.

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